New York Markets After Hours

Dow, Nasdaq backpedal

Sturdy data dents sentiment

By

JulieRannazzisi

NEW YORK (CBS.MW) -- The stock indexes ended in the red on the lightest volume day of the year Friday as a strong retail sales report and an improvement in consumer sentiment prompted investors to question just how aggressive the Fed will need to be in the coming months.

The huge sell-off in the Treasury market for a second consecutive session underscored the notion that rate cut hopes may be overly optimistic.

"Higher-than-expected retail sales and consumer confidence numbers are dominating people's thinking. They are thinking that the Fed may only move 25 basis points Tuesday or if we get a 50 point cut that there may be nothing else [to follow]," commented David Coard, principal and head of fixed-income sales and trading, The Williams Capital Group.

But Joe Liro, equity strategist at Stone & McCarthy Research Associates, said economic data tend to become a handy scapegoat. He said the telling factor is that both the Dow and Nasdaq have been unable, after repeated attempts, to penetrate resistance levels at 11,050 and 2,250.

"You're reinforcing the notion that we're in a trading range," Liro commented.

In sector action, all tech groups headed lower, with chip stocks only modestly lower while Internet and software issues had to contend with more aggressive selling pressure. The broader market was also swimming in a sea of red, with oil service, paper, gold, chemical, financial and natural gas issues under the gun. Only utility and retail issues moved higher. See latest market stats.

The Dow Jones Industrial Average
DJIA, -0.05%
slid 89.13 points, or 0.8 percent, to 10,821.31. Among the hardest hit were shares of Alcoa, IBM, Intel, International Paper, J.P. Morgan Chase and DuPont. Taking a cruise in the plus column were shares of McDonald's, AT&T, Wal-Mart and Home Depot.

"The market is tired. We had a big move up and we need to take some time off. The 11,000 mark has proved to be a tremendous [barrier] for the Dow and without a catalyst the market is just drifting," said Barry Hyman, chief investment strategist at Ehrenkrantz King Nussbaum.

Hyman said is remains to be seen whether next week's FOMC meeting will be the catalyst to move higher or take profits. "[Stocks] had built in expectations for a 50-basis-point cut next week and that's not certain anymore."

The Nasdaq Composite
$COMPQ
lost 21.43 points, or 1.0 percent, to 2,107.43 while the Nasdaq 100 Index
$NDX
lost 17.12 points, or 0.9 percent, to 1,821.20.

Volume stood at a paltry 889 million on the NYSE and at 1.42 billion on the Nasdaq Stock Market. Market breadth was slightly negative, with decliners outpacing advancers by 18 to 13 on the NYSE and by 21 to 17 on the Nasdaq.

Separately, fund flow tracker Trim Tabs estimated that all equity funds had inflows of $400 million during the week ending May 9 vs. inflows of $14.9 billion during the prior week. Equity funds that invest primarily in U.S. stocks had inflows of $2.1 billion, compared with inflows of $11.3 billion the previous week.

Inside the data

While Friday's encouraging economic news was undoubtedly a breath of fresh air, it also raised concerns among investors that the Fed may not need to ease a whole lot more to jump-start the economy.

"Fed rate cuts have been prompted by the sharp deceleration of domestic spending. If consumer spending regains momentum, May 15's likely 50-basis-point rate reduction to 4 percent may be the last of the latest monetary easing," rating agency Moody's Investors Service said in a research note.

While April retail sales revealed unexpected sturdiness, March retail sales were revised down to a drop of 0.4 percent from the previous estimate of a drop of 0.2 percent.

"Apparently, the economy and the labor markets have not faltered enough to scare away households from the malls. That is not to say spending is booming. The declines in February and March were basically just offset by the rise in April. Thus, while consumer spending is solid enough to keep us out of a recession, it is not so strong that we can forecast any major rebound in the economy. So the Fed will not be deterred from dropping rates next week," observed Joel Naroff, chief economist at Naroff Economic Advisors.

The preliminary reading for May of the Michigan consumer sentiment index revealed an increase to 92.6 vs. the previous month's 88.4 level. And the expectations index rose to 86.5 vs. 82.2.

On the inflation front, the producer price index climbed by an as-expected 0.3 percent in April. The core rate, which takes out the food and energy sectors, gained 0.2 percent, a touch higher than the 0.1 percent increase that had been expected. View Economic Preview and economic calendar and forecasts.

Sector movements

Dow stock IBM
IBM, +0.47%
struggled and took the hardware sector lower on Friday. Lou Gerstner, Big Blue's chief executive, said at the company's analyst meeting late Thursday that its services expertise will continue to fuel double-digit earnings growth. He notes that the services segment is now the most important sector in the tech industry and that IBM to has an overwhelming market leadership. See story. Shares ended down 2.9 percent.

Analyst Andrew Neff at Bear Stearns lowered its rating on IBM to "attractive" from "buy," citing concerns about less potential for upside due to valuation. The analyst said that while IBM was "confident and upbeat" at its analyst meeting, it did not provide any updates or action plans for its PC business.

UBS Warburg said the meeting was pretty consistent with prior strategy statements, adding that "in some ways the meeting was disappointing because there was nothing new." Still, UBS reiterated its "strong buy" rating on the stock, indicating that IBM's long-term and recent performance suggest little compelling reason for change. Among the decliners in the PC space were Dell Computer, up 0.1 percent, Compaq, off 1 percent, and Hewlett-Packard, down 1.8 percent.

Fiber-optic stocks pulled back, led by Canada's Nortel Networks
NT
which lost 3.9 percent. Nortel announced that its chief operating officer Clarence Chandran has resigned effective immediately to take additional time for the completion of his medical leave announced on March 13. See full story. Other stocks losing ground in the space included Sycamore Networks, off 6 percent, and Corning, down 2.9 percent.

The drug group slipped into the minus column following a modest gain out of the chute. But Schering-Plough's
SGP, -0.06%
3.2-percent advance limited losses. An article in the latest issue of Business Week indicated Dow stock Merck had approached Schering to purchase the company for $91 billion. A spokesman for Schering-Plough declined to comment on the report.

Separately, Merck
MRK, -0.64%
said it's purchasing Rosetta Inpharmatics
RSTA
a leading informational genomics company, for about $620 million. Based on Thursday's closing price of $9.91, the deal values Rosetta at $18 a share. Rosetta surged 75 percent and Merck lost 0.8 percent. See full story.

Ameritrade
AMTD, +0.30%
bucked the trend in the brokerage group Friday with a 7.5-percent climb after a report in USA Today said Canadian Imperial Bank of Commerce, Canada's second largest bank, is in talks to purchase the online outfit for $9 to $10 a share. Spokesmen for both Ameritrade and CIBC said the companies do not comment on market speculation and rumor. See full story.

The insurance sector pondered news that Britain's Prudential terminated its $20 billion stock takeover of American General
AGC, +0.64%
American International Group
AIG, -0.89%
made a counterbid for American General totaling $23 billion in April and won the battle. AIG agreed to pay Prudential a $600 million termination fee. AIG lost 1.1 percent while American General added 1.1 percent. See full story.

Retail stocks gained traction for a second session, building on Thursday's hefty gains. A plethora of retailers will be reporting their results next week. UBS Warbug said in a research note that very few retailers surprised Wall Street with bad news during the first quarter. "In fact, 'confession season' was eerily quiet. While still early, we think that may be a sign that estimates need not come down much more," Warbug said. The Dow's retail components were among the index's biggest upside movers: Wal-Mart rose 1.3 percent and Home Depot added 1.3 percent.

In other corporate news, United Parcel Service
UPS, +0.59%
reaffirmed expectations for second-quarter earnings-per-share to come in at the lower end of 55 to 60 cents a share. First Call/Thomson Financial pegs EPS at 55 cents a share. The company said "short-term business conditions for UPS remain fairly stable." Shares ended up 0.5 percent.

Treasury focus

Government bond issues were again hard hit as investors were spooked by the stronger-than-expected retail sales report and higher confidence figures.

The bond market has struggled with the notion that an economic recovery later in the year, made possible by the Fed's aggressive action so far, will cause inflation to resurface.

Tony Crescenzi, chief bond market strategist at Miller, Tabak & Co., said the rout in the long-end of the bond market may force the Fed to choose between one of two options at the upcoming FOMC meeting: they may have to either cut rates by just 25 basis points or cut by 50 while indicating in their policy statement that future rate cuts could be smaller and less frequent.

"Failure to do could risk a continued rise in long-term interest rates and thereby hurt key sectors such as the housing market, one of the few bright spots in the economy. The Fed has historically shown an inclination to heed the message of the bond market so it is a good bet that they will do so yet again," Crescenzi noted.

In the currency sector, dollar/yen erased 0.1 percent to 122.47 while euro/dollar lost 0.7 percent to 0.8752.

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